Airlines stocks continued to get hammered, and we continue to expect the oil crisis to lead to numerous bankruptcies. Credit Suisse thinks the airlines can avoid Chapter 11 by cutting capacity…unless oil goes to $150+:
Ch. 11 is good for fixing broken cost structures, but not weak revenue models, the issue facing airlines. Rather, the cure for weak revenue models is simply rightsizing capacity (or exiting)… Ch. 11 filings are not likely given the current macro backdrop. Assuming crude at $130 in 2H08, $125 in 09 and an economy that remains resilient, 10-13% domestic capacity cuts in 4Q annualizing into 09 enable most to claw back to profitability in our models; believe Street under appreciating RASM benefits of upcoming planned cuts.
The required changes seem drastic, but airlines were able to weather even more radical reforms after 9/11, which suggests that they can weather them again:
And for perspective, the industry cut 15-20% capacity following 9/11 & could do so again; it’s more than halfway there by year-end. Note that 9/11 was followed by a demand shock & collapse in industry pricing whereas, near-term demand remains decent; 13 of 19 fare increases this year have remained sticky.
However, if the economy deteriorates further and crude prices advance above $150, then Chapter 11, irrespective of its financial attractiveness, will likely become unavoidable for many players:
airlines become Ch. 11 candidates under a worse, $150+ crude backdrop because: i) airlines are limited in their ability to cut to the extent needed; ii) our revenue outlook deteriorates under our assumption that the economy endures a deeper, longer downturn (not currently factored into our outlook); iii) M&A can be facilitated in Ch. 11; iv) contracts can be renegotiated.
CS continues to rate the industry Underweight.